The burden of pension schemes is starting to have grave implications for both organisations and individuals, says Laverne Hadaway
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The government is in the middle of reforming pensions, but not everyone is happy about the changes it’s making.
Many experts claim that the Pensions Act 2004 has produced unintended consequences, and this has greatly upset many employers. Giles Orton, head of pensions at law firm Eversheds, says: "They feel badly burned. You won’t find any financial director who wants to provide a defined benefit (final salary) scheme now. The trend among employers is to do less."
David Blake, professor of pensions at Cass Business School, and director of the Pensions Institute, agrees. "Employers are very angry about it, because what was established as a voluntary promise is now a guarantee." He suggests that pension schemes have become a massive burden, which has started to affect the way employers do business.
So, for example, pensions deficits now legally count as debts of the company, which could potentially damage their standing among shareholders and bondholders. Then there are the premiums that employers will pay on the pension protection fund. More profitable companies are likely to end up subsidising less profitable ones, creating yet another burden. The age discrimination laws, meanwhile, will mean that organisations won’t be able to part with workers who may not be as productive as they once were, so they will be forced to accept poorer productivity.
Like Orton, Blake believes that the new legislation will encourage employers to pull out of defined benefit schemes, and replace them with defined contribution arrangements. This is likely to leave employees facing the prospect of lower pension contributions, and carrying all the investment risk. "150 years of the development of occupational pensions has come to an end in five or six years," explains Blake.
This trend may be further accelerated if the government takes on board proposals in Adair Turner’s Pensions Commission report for a national pensions savings scheme, into which employers will pay matched contributions of up to 3% of salary for employees who have not opted out of the scheme.
The report also proposes an increase in the state pension age to 67 years by at least 2040, and a more generous and less means tested state pension. The government is due to unveil its final plans to solve the pensions crisis in spring 2006.
Blake foresees a bleak future, predicting that many people will discover that they cannot enjoy their retirement because they need to keep working to make ends meet. "People need to plan [for] retirement in their 20s. We’re not natural savers, but when you reach retirement it’s too late to do anything," he says.
He believes that people will begin to become more aware of the problem only when the social security budget balloons out of control. He predicts that over time pension credits will rise so far that they can no longer be paid out of national insurance contributions. This will force a rise in taxes, which will wake younger people up to the pensions crisis.
"We need to get people to recognise that they are living much longer and need to save for their retirement," says Blake. He contrasts the UK with Sweden, which introduced compulsory pensions contributions of 18.5% for all employees in 2001. In the UK, employees only contribute around 4% of their salary on average.
Penny Green, president of the Pensions Management Institute (PMI) and chief executive of the Superannuation Arrangements of the University of London, takes a less pessimistic view, convinced that with open and honest communication and education, people can be encouraged to pay more into their pension pots. She says that there are numerous cases of employees agreeing to increase their contribution rates after consultation in the workplace.
Green argues that people seem to be aware that they need to do something about their pensions. "Most people intrinsically accept that the state pension system will give you bread, but it won’t provide butter, let alone jam," she says.
Rather than employers playing less of a role, she believes that they remain a vital part of the government’s pension strategy. She sees them as central to the future financial wellbeing of the UK’s retirees, not just because firms provide access to pensions themselves, but also because they can provide this much-needed consultation and education.
"Employers have been key in helping employees provide for their retirement for many years, but they have not necessarily been actively involved. The perception is that they’ve set up good schemes and then let employees get on with it themselves," she argues.
She is optimistic about a future where employers can help employees get to grips with pensions and start to take responsibility for saving for their retirement at a much earlier stage.